Jim Blankenship is the founder and principal of Blankenship Financial Planning, Ltd., a financial planning firm providing hourly, as-needed financial planning and advice. A financial services professional for over 25 years, Jim is a CFP professional and has earned the Enrolled Agent designation, a designation that qualifies him as enrolled to practice before the IRS. Jim is also a NAPFA-registered financial advisor, which designates him as a Fee-Only Financial Advisor.

Recently one of the tenets of the Small Business Jobs Act of 2010 came into effect, providing you with additional opportunities to set aside funds in a Roth account – not a Roth IRA, but rather a “designated Roth account”, often referred to as a Roth 401(k) or Roth 403(b). Designated Roth accounts are also often referred to as DRACs – just to keep the acronym train rolling.

The way the new law works is that, if you have a 401(k) or 403(b) (the traditional kind), you can roll over or convert some of your funds to a DRAC while the account is still active – as long as your plan is set up to allow in-plan distributions of this variety.

The eligible rollover distribution (ERD) must be made:

after September 27, 2010;

from a non-designated Roth account in the same plan, meaning your traditional 401(k) or 403(b);

because of an event that triggers an ERD from the plan; and

otherwise meets the rollover requirements.

Eligible Rollover Distribution

To be considered an eligible rollover distribution (ERD), the distribution is all or part of an employee’s balance in a qualified retirement plan (401(k) or 403(b)), that is not any of the following:

A required minimum distribution (RMD)

Part of a Series of Substantially Equal Periodic Payments (SOSEPP), also known as a §72(t) plan

A hardship distribution

Return of employee’s nondeductible contributions

Loans treated as distributions

Dividends on employer securities

Premiums for life insurance coverage purchased under the plan

If you roll over an ERD into a DRAC, you must include first the non-taxed (deductible) funds – but this is also a distribution that is not subject to the 10% early distribution penalty (much like a Roth IRA conversion). There is no income limit on the conversion.

In addition, just like a Roth IRA conversion, for a DRAC conversion in 2010 you have the option of spreading the tax over 2011 and 2012, with a recharacterization option up to October 15, 2011.

In addition, this new law allows for sponsors of governmental 457 plans to add a DRAC option to their plans in 2011 and later. Then these plans can be amended to allow the in-plan ERD distribution to the DRAC later on.

About the author

Jim Blankenship, CFP®, EA

Jim Blankenship is the founder and principal of Blankenship Financial Planning, Ltd., a financial planning firm providing hourly, as-needed financial planning and advice. A financial services professional for over 25 years, Jim is a CFP professional and has earned the Enrolled Agent designation, a designation that qualifies him as enrolled to practice before the IRS. Jim is also a NAPFA-registered financial advisor, which designates him as a Fee-Only Financial Advisor.